Portugal, ECB, Turkey — trials and tribulations

How to pull defeat from the jaws of victory in one easy lesson; look no further than Portugal.

After the resignation of both finance and foreign minister last week, Prime Minister Paolo Passos Coelho salvaged things by making the latter – Paulo Portas – his deputy and putting him in charge of dealing with the country’s EU/IMF/ECB lenders.

That could have created tensions and problems but we never got to find out because the president then rocked the political class to its foundations by throwing the deal out.

Instead he demanded a sort of grand coalition to unite behind the bailout programme, including the opposition Socialists who are distinctly cool about the government’s austerity drive and have been calling for snap elections.

The troika of international lenders were due back for a review next week but have been put off until the end of August to buy time to try and sort the mess out. Lisbon could be forced to negotiate a second bailout if stability does not return quickly. Passos Coelho will speak in a regular parliamentary debate this morning and hold further talks with party leaders.

Ireland still looks set to exit its bailout before the year is out and is the only consistent source of good news from the euro zone’s sick ward, although it too has slid back into recession.

More of that this morning with S&P upgrading its outlook on Ireland’s credit rating to positive from stable, saying the government may beat its fiscal targets and cut debt faster than previously expected.

In the round, this hasn’t been a good week for the euro zone. Germany wasted no time in shooting down the European Commission’s proposal for a body to wind-up failing banks, Italy’s credit rating was downgraded, leading to a tepid bond auction, and the European Central Bank has tied itself in knots over the forward guidance it has decided to offer on interest rates.

To recap. Eight days ago Mario Draghi ripped up the ECB’s rule book and declared interest rates should stay at record lows for an “extended period” and could even fall further. That immediately begged the question how long extended might be.

Earlier this week, we thought we had some clarity when Joerg Asmussen told us it was good for more than 12 months. But he was almost instantly put down by ECB HQ and since then the waters have got murkier and murkier.

Bundesbank chief Jens Weidmann declared that the ECB had not “tied itself to the mast” and would tighten policy if inflation climbed. Then Benoit Coeure, generally taken as being in the more dovish camp, said the guidance would be reviewed each and every month.

This morning chief economist Peter Praet is out saying rates can stay low or fall as long as inflation remains moderate, while Vice President Constancio is looking at the sluggish growth outlook and predicting that policy will have to stay loose for a “long time”.

What a cacophony. Now the thing is each and every one of these statements is probably true (although on Asmussen’s more precise prediction we’ll have to wait and see).
What it all demonstrates is that in the ECB’s case forward guidance isn’t really worth the paper it’s written on (if it was written on paper). If inflation remains muted and growth slow, rates won’t go up. But if price pressures do take off, they will. The timing is just guesswork. ‘Twas ever thus.

The Spanish government is expected to pass a major reform of the energy sector to plug a growing gap between power prices and generation costs, with the aim of taking some pressure off the public purse.

It’s been a week of turmoil in Turkey with the central bank burning its reserves to defend the currency. The lira looks steadier this morning but an interest rate rise is probably what’s required to settle things down or risk further investment outflows from a country already saddled with a gaping current account deficit.

Prime Minister Tayyip Erdogan blaming a “high interest rate lobby” for everything from mass public protests to the market turmoil is unlikely to fill investors with confidence either.